HTAs: The Good And The Bad

Christian Karg knows that marketing corn and soybeans is always an education. And he has learned how to use sometimes complex hedge-to-arrive (HTA) contracts efficiently and take advantage of using futures contracts without facing margin calls.

Karg, who grows white food corn, soybeans, grain sorghum and wheat in southern Illinois near Murphysboro, counts on HTAs to protect a good price offered by Chicago Board of Trade (CBOT) corn or soybean futures.

He can also lock in his basis when he wants up to the time of delivery. And he maintains sufficient storage “because HTAs won't work without plenty of storage.”

Bob Wisner, Iowa State University grain marketing specialist, says HTAs allow the producer to lock in a futures price with the local elevator, leaving the basis to be set later.

The elevator then establishes a hedge in the futures on the grower's behalf in exchange for delivery of the cash commodity at a set time. Contracts are usually 5,000 bu. each, but some elevators will allow for smaller HTAs.

This contract is useful if futures prices are relatively high, if market conditions lead you to believe that they will weaken and/or if you think there is room for improvement in basis levels, says Wisner.

Economists point out that basis can be set at any time, but must be set prior to delivery while the contracted futures month is still being used by traders to calculate cash price. It's usually by the 15th of the month preceding contract expiration. The contract is completed when the grower sets the basis and delivers the grain.

With production only a few miles from the Mississippi River, Karg sometimes sees better marketing opportunities through river terminals, but basis levels were lower than normal in 2007. HTAs provided flexibility in marketing, enabling him to lock in solid futures prices without having to lock in a basis.

“We usually receive a good premium from the elevator on our white corn and a good basis for milo,” says Karg. The white corn premium was 40-58¢/bu. for contracts in 2007.

In mid-October, he locked in a $4.53 HTA on white corn for January delivery. With the premium, he will be in the magic $5 range.

He was able to lock in HTAs to provide about a $4.15/bu. average, plus the premium, on his white corn.

He also used corn futures to secure milo HTAs. A milo basis at an attractive 68¢ over during harvest made it a premium itself.

“In January 2007 we established a milo HTA at $3.63 based off December 2007 corn futures,” he says. Another milo contract was set in January at $3.51. A third $4.12 HTA was set later on. The 68¢over basis added to the price.

Corn basis for Karg was 14¢ under in September and it went to about even in mid-October. But he expected it to improve in December or later after the pipeline becomes unclogged.

“I usually lock in a corn basis in December,” he says. “But anymore, you can't be sure when you should establish a basis, whether you should wait or not.”

Soybean HTAs are also in Karg's plan. He grows primarily non-GMO beans. He secured $8.75/bu. HTA in late June for December delivery and a basis stronger than the 60¢ under, as seen in September. But he is considering rolling those HTAs over to early 2008 because of the stronger prices seen in October.

The cost of HTAs can range from 2¢ to 3¢/bu. for the initial contracts and again for rollovers. The rollovers can help growers take advantage of even higher prices. But there can be consequences, says Karg.

“You can get into trouble,” he admits. “I rolled over some corn a few years ago, and because of a short crop, didn't have the grain to cover it. I had to cover it financially. That's a mistake I don't plan on making again.”

The Good, The Bad, The Ugly

Iowa State grain marketing specialist Bob Wisner says hedge-to-arrive (HTA) contracts can produce the good, the bad and, in the past, the ugly.

The good involves the benefits of being able to use futures prices without facing margin penalties and freedom to set a basis as it improves. The bad is when growers go too far in stretching their ability to deliver a contract.

And the ugly in the mid-1990s involved misuse of high-risk, multi-year, inter-crop rolling contracts that caused millions of dollars in losses for bad HTA managers, says Wisner.

“Multi-year, inter-crop rolling HTAs involve extreme risk exposure that vastly exceeds even that of single-crop, inter-year rolling HTAs,” he says. “The contracts sometimes have been used to price several years' expected production with an HTA that begins in nearby old-crop futures.

“Using these contracts involved making a very questionable and high-risk assumption. The user assumed that spread relationships from rolling the current crop year futures prices to prices for later-year crops — even perhaps one to five or more years ahead — will provide a net price near that reflected in the old-crop futures.”

Wisner says there is “absolutely no way producers” can be assured that the end result of these contracts several years into the future would be even close to the current old-crop prices.

“These types of HTAs have been avoided by the grain trade since 1996,” he says. If you see one offered, Wisner strongly recommends staying away from it. He adds that elevators now offer HTAs on crops out to 2009 or 2010, and CBOT now has harvest delivery futures contracts going out that far.

“These HTAs, unlike the mid-1990s, are based on harvest delivery futures for the year being priced, which greatly reduces the risk exposure,” says Wisner. “Even so, grain producers should be conservative in the volume sold that far out and should be aware that under extreme market volatility, they may be asked to put up margin money.”

Advantages Of HTA Contracts:

Limits downside futures price risk.

Can take advantage of basis improvement.

Typically, no margin requirements to the farmer, since the elevator is carrying the position. Under extreme conditions the elevator may require farmers to meet margin calls. (Check the fine print in your contract to see if it provides for this under exceptional situations.)

Provisions may allow buying back the contract if you are unable to deliver.

May be allowed to roll the contract to a later month in the same crop year. (Can be a disadvantage, as well.)

Disadvantages Of HTA Contracts:

The inability to participate in futures rally. At times, it may be useful to buy call options to offset this disadvantage.

Downside basis risk should basis weaken.

You must monitor basis levels closely to lock them in when favorable.

You become locked in to the local elevator and are required to deliver (unless allowed to buy back the contract).

If grain is delivered prior to pricing basis, there may be service charges.

For more on how HTAs can benefit your marketing program, see your regional Extension grain marketing specialist.